Refundable Tax Credits=Socialism?

This is interesting for so many reasons. To start, the mother of all refundable credits is the Earned Income Credit, which is the largest poverty program in the U.S. and distributes $42 billion to more than 20 million low-income families. It was enacted during the Presidency of well-known leftist Gerald Ford, and has been expanded repeatedly ever since, most recently by President Bush in 2001.

It is also interesting because over the next decade, John McCain himself would distribute $1.3 trillion in refundable credits (net of the taxes workers pay on their employer-sponsored insurance) to help people buy health coverage. It is true that Obama would be somewhat more generous—he’d give both individuals and small businesses about $1.5 trillion to buy insurance. If this turns Obama into Eugene V. Debs, I suppose it would make McCain a clone of Norman Thomas.

McCain also seems to be implying that a progressive tax system is itself socialistic. This is somewhat surprising since, while McCain would make the code somewhat less progressive than it is today, I had not heard that he favored abandoning the entire principle. Of course, he has proposed an optional individual tax system that he has never really described but which, in some forms, would be far less progressive than the current system. So maybe I am wrong about McCain’s enthusiasm for a new tax code that distributes wealth from the middle-class to the rich. If I were McCain, though, I probably wouldn’t advertise it.

Finally, given the recent move by the Bush Administration to buy $250 billion in bank shares and its vow to spend many hundreds of billions more to bail out other failed financial institutions (a law both McCain and Obama voted for), I am not entirely sure I could tell you the difference between Bushian capitalism and contemporary socialism.

For all of that, however, McCain does raise some important issues. What is it with Obama’s, may I say, liberal use of refundable credits?He’d give them to working families, homeowners who don’t itemize, parents whose kids are in child care, savers, employers who hire new workers, and, of course, buyers of health insurance. Oh, and he'd once again expand the earned income credit.

All of this, fumes McCain, is spending. And on that point, he is largely correct, not only about refundable credits but all sorts of other tax expenditures aimed at both individuals and businesses. One can argue that the EITC is a backdoor way to cut payroll taxes for low-wage workers without messing with Social Security. But it is much harder for Obama—and McCain—to make the case for refundable health care credits.

These are not tax credits in any meaningful sense of the words. They are vouchers. Obama admits as much when he claims in mock outrage that McCain would be giving his credit directly to insurance companies. Well, of course he would. Where else would you buy insurance?

McCain is right that this is spending in drag. And there are good reasons to ask whether we really want the IRS to run both our welfare and health care systems, as well as our energy and investment policies. After all, at the moment, it is having enough trouble collecting the taxes it is owed. But crying socialism demeans McCain and trivializes serious questions about the $750 billion we spend each year on refundable credits and other tax expenditures.

4Comments

Anonymous :: 9:24 pm on October 21st, 2008:

The one good thing about this whole debate even if it being fought in a rather childish and ignorant way, it is that it brings up the entire issue of tax expenditures and hopefully makes intelligent people get back to what I would call “core public finance.” That is, we need to be answering two questions: (1) What is the public good here (i.e. market failure)? and (2) Just what is the optimal way to solve the market failure of a given public good (i.e. regulation, special tax provisions, direct spending, etc.)?

Refundable credits would hit their heyday if combined with a tax reform that ended individual tax payment of income under $100,000 ($50,000 for individuals) – the threshold is adjustable – and turned tax credits into adjustments to payroll taxes or corporate or business income taxes (of sole proprietors or partnerships). If the two were linked, credits could be increased and used to entirely replace government programs – provided the private alternative was as effective. For example, disability and retiree medical insurance may suddenly be done privately if this led to not paying these taxes. The entire student loan operation could be transfered to an employment based program with companies assuming loans from banks when they hire a new employee – or even making them directly and hiring bright students before they finish their degrees. The EITC and any VAT prebate could be significantly increased to living wage levels – provided the tax rate were increased and the deductibility of wages ended.
On the local level, elementary and secondary schools could be financed with tax expenditures, either by employees designating their preferred education provider or by having employers give vouchers to employees and crediting the expense on their taxes. There could also be a credit for hiring welfare recipients and sending them to adult education classes while on salary and taking both costs as a tax credit.
This adds a libertarian twist, as huge portions of government spending are transferred to tax expenditures.

Anonymous :: 6:56 pm on October 28th, 2008:

I share in Howard Gleckman's astonishment over McCain's comparison of refundable tax credits to socialism. Those interested in tax policy might recall that Milton Friedman, the renowned economist credited by the Wall Street Journal as a “popularizer of free-market principles”, advocated for refundable credits in the form of a negative income tax. This comparison is way off base.
Ben Harris